Basci Winning Street Cred as Turkey Inflation Bets Tumble

Turkey’s central bank Governor Erdem Basci is winning the respect of bond investors, who are betting he will drive inflation toward his target even as he trims interest rates faster than predicted.

Market expectations for inflation over the next two years fell by 22 basis points to 5.78 percentage points after Basci lowered the benchmark repurchase rate by 0.75 percentage point on June 24, exceeding the 0.5 percentage-point forecast in a Bloomberg survey. That’s the lowest so-called break-even rate since September and compares with annual consumer-price gains of 9.7 percent in May.

Basci, who said on June 16 that he won’t be at peace until inflation falls to his 5 percent target, is gaining the market’s confidence even though he is yet to hit that mark during his more than three years in office. The lira has strengthened 3 percent against the dollar since Prime Minister Recep Tayyip Erdogan’s party won local elections on March 30, spurring a chorus of calls for the central bank to prioritize growth after policy makers more than doubled the benchmark rate in January.

“Inflation’s expected decline implied by the break-even rate is justified,” Inanc Sozer, chief economist at Odeabank AS in Istanbul, said by e-mail yesterday. “The central bank is determined to meet its inflation target in 2015.”

Political Pressure

The central bank cut its benchmark rate to 8.75 percent on June 24, while keeping the so-called marginal funding rate, which it uses for overnight lending, at 12 percent. The bank may lower or raise the cost of borrowing for banks by changing the amount it lends at that higher rate.

Economy Minister Nihat Zeybekci said on June 23 that he wants to see the benchmark below the 4.5 percent level it was before January’s emergency meeting. Erdogan has accused policy makers of keeping rates too high, calling the half-point cut at their May 22 meeting a “joke.”

The adverse effect of “exchange-rate developments” on inflation will “gradually taper off,” the central bank said in a statement accompanying the June 24 rate cut. Inflation is “expected to decline markedly starting from this month,” the bank said.

Lower inflation increases the appeal of fixed-rate debt over consumer price-linked bonds which, “in turn, results in a decline in break-even rates,” Cem Ciloglu, vice president for treasury at Ak Investment in Istanbul, said by phone yesterday.

Weak Lira

The lira remains 18 percent weaker than its five-year average, even after strengthening 11 percent since a Jan. 27 record low. It fell 0.1 percent to 2.1266 per dollar at 12:22 p.m. in Istanbul. Two-year government note yields declined eight basis points, or 0.08 percentage point, to 8.23 percent, retreating from a four-year high of 11.60 percent on March 24.

“The lira still isn’t very strong and there are added geopolitical risks” that could further weaken the currency and spur inflation, Nilufer Sezgin, chief economist at Erste Securities in Istanbul, said by phone yesterday.

Brent crude climbed to a nine-month high on June 19 on concern that Iraq, which holds the world’s fifth-largest oil reserves, is under threat of splitting apart amid a battle to crush an al-Qaeda breakaway group in the north of the country.

Turkey is a net oil importer with the biggest current-account deficit as a percentage of economic output among 11 emerging nations in developing Europe and Africa monitored by Bloomberg.

Inflation will probably decelerate to 9.2 percent in June from a two-year high the previous month, according to a Bloomberg survey before the statistics office publishes the data on July 3. The central bank predicts consumer-price growth will slow to 7.6 percent by the end of this year.

“The central bank can indeed meet its year-end target,” Odea’s Sozer said.

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